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Empirical Assessment of an Intertemporal Option Pricing Model with Latent variables

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  • GARCIA,René
  • LUGER, Richard
  • RENAULT, Éric

Abstract

This paper assesses the empirical performance of an intertemporal option pricing model with latent variables which generalizes the Hull-White stochastic volatility formula. Using this generalized formula in an ad-hoc fashion to extract two implicit parameters and forecast next day S&P 500 option prices, we obtain similar pricing errors than with implied volatility alone as in the Hull-White case. When we specialize this model to an equilibrium recursive utility model, we show through simulations that option prices are more informative than stock prices about the structural parameters of the model. We also show that a simple method of moments with a panel of option prices provides good estimates of the parameters of the model. This lays the ground for an empirical assessment of this equilibrium model with S&P 500 option prices in terms of pricing errors.

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File URL: http://hdl.handle.net/1866/351
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Bibliographic Info

Paper provided by Universite de Montreal, Departement de sciences economiques in its series Cahiers de recherche with number 2001-10.

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Length: 32 pages
Date of creation: 2001
Date of revision:
Handle: RePEc:mtl:montde:2001-10

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Keywords: oion icing; stochastic discount factor; stochastic volatility; Black-Scholes imied volatility; smile effect; equilibrium oion icing;

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References

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